Pfizer And Identifying Good Reasons To Make Acquisitions

“
Pfizer has made more than its share of value-destroying acquisitions,” concludes the New York Times in discussing Pfizer’s recent announcement that it is offering $15.2 billion to acquire
Hospira. Pfizer is offering a 39% premium over Hospira’s previous day close, hoping that Hospira’s expertise in the growing area of biosimilars will create value for the firm, even as other prior Pfizer deals have destroyed value.

In prior transactions, Pfizer had spent over $200 billion acquiring Warner-Lambert, Pharmacia, and Wyeth. Despite this enormous spending, Pfizer has a market cap of only $208 billion today. Pfizer’s prior deals were based on cost-savings and synergies that never materialized.

So, why did these past deals fail, why should the Hospira deal be any different, and how can Pfizer provide guidance for middle market deals?

McKinsey & Company suggests that whether deals will create or destroy value can largely be predicted by the value creation strategies behind the acquisitions. Moreover, McKinsey concludes that there are only five good rationales for making acquisitions, but plenty of bad ones.

Improving the target company’s performance: Opportunities exist in buying a company with the purpose of reducing costs to improve margins and cash flows and/or accelerating revenue growth. Private equity firms often employ this rationale, as it tends to complement their skill sets and offers a direct line to increasing bottom line profits.

Removing excess capacity from an industry: In mature industries, participants have often developed excess capacity, generating more supply than demand. McKinsey notes that this does not necessarily refer just to manufacturing facilities, but can also refer to other resources, such as sales capacity or R&D capacity. The difficulty with this strategy is the possibility of paying for assets that will be idled, resulting in value being driven to the seller rather than the buyer.